Question

a year ago, you graduated from college and decided to open your own computer software company. Over the past year, your firm generated 500,000 in revenue. you hired 2 software engineers and paid each of them 150,000 over the past year. You also purchased computer equipment that cost a total of 30,000. To save money, you decided to use the basement of your home for the business. Previously, you had rented this space to a tenant for 6,000 a year. Instead of opening your own business, you could have gone to work for Microsoft and earned 200,000 over the past year. What were your accounting and economic profits of your firm over the past year

Answer 1

The firm's accounting profit over the past year is $170,000. However, when including implicit costs such as foregone rent and potential salary from Microsoft, the economic profit is -$36,000, showing a loss when opportunity costs are considered.

Step-by-step explanation:

The calculation of a firm's accounting profit and economic profit takes into account different types of costs. For the scenario mentioned, we'll calculate both profits based on the information provided about revenues and costs (including implicit costs).

Accounting Profit Calculation

1. Start with the total revenue generated: $500,000.
2. Subtract the explicit costs, which include $150,000 paid to each software engineer (totaling $300,000) and $30,000 for computer equipment.
3. The accounting profit equals total revenue minus explicit costs: $500,000 - $300,000 - $30,000 = $170,000.

Economic Profit Calculation

1. Begin with the accounting profit of $170,000.
2. Consider the implicit costs: opportunity cost of not renting the basement ($6,000) and the foregone salary from not working at Microsoft ($200,000).
3. The economic profit equals accounting profit minus implicit costs: $170,000 - $6,000 - $200,000 = -$36,000.

In conclusion, the firm's accounting profit is $170,000, while the economic profit is -$36,000, indicating that when considering opportunity costs, the business incurred a loss.